The banking regulations tightened after the financial crisis should reduce the need for a state safety net for the big banks. But there is still an unofficial state guarantee. According to the Federal Council’s plans, state liquidity aid will soon officially serve as a safety net to calm the market.
If a bank’s reputation suffers, this can increase the number of customers and employees leaving the bank.
A bank’s most important asset is trust. In the case of Credit Suisse, this truism demands its justification again. If there are enough doubts about the future viability of a financial institution, not only will good employees leave, but customers and creditors will also consider making a deduction. The danger of the self-fulfilling prophecy is part of the nature of the banking business: if many people think that a bank is in crisis, this can trigger the crisis or massively intensify it. With widespread uncertainty, the market also becomes more susceptible to believing wild rumors that shady players create in order to profit from short-term futures trading. And the traditional media act as classic trend enhancers, adding fuel to the fire with crisp headlines.
Credit Suisse is officially a “systemically important bank” globally and in Switzerland. This means that a sinking would probably cause high economic damage. Therefore, the big banks have to meet special requirements in terms of equity, liquidity and emergency planning. After the outbreak of the financial crisis in 2008, regulation for the big banks was significantly tightened both globally and in Switzerland. The main purpose of the tightening: the state bailout of financial institutions should become less likely.
Liquidity support planned
But there is still an unofficial state guarantee in Switzerland. That’s what observers of the financial market scene say. It can be assumed that the authorities have been following the turbulence surrounding Credit Suisse this year with growing concern and also with increased thought about how to get help in a possible emergency. If they didn’t, they wouldn’t have done their homework. The authorities could not and did not want to say anything specific about Credit Suisse when asked on Tuesday; any public statement can be sensitive.
However, the intention of the Federal Council is public: it wants to permanently create state liquidity protection for systemically important banks in the event of an emergency. The government has its intention this March announced. A concrete legislative project is to go into consultation in the middle of next year. According to the Federal Council, the planned safeguarding of liquidity (“Public Liquidity Backstop”) is intended to provide a systemically important bank with liquidity quickly and on a subsidiary basis, “if this should be necessary for the successful restructuring”.
The planned instrument, which is part of the international standard, “contributes to the fact that existing or new market participants are willing to maintain or enter into business relationships with the bank concerned,” wrote the government in March. The safety net is intended to help calm the market as a preventive measure. If government liquidity support is required, this should take the form of a federally guaranteed loan from the National Bank. Linked to such a loan would be a bankruptcy privilege for the federal government.
The Axpo scenario
If the need arises, it would be conceivable for the federal government to set up this safety net before the instrument is enshrined in law. This would be similar to the scenario of the federal bailout fund for the large electricity companies: Because of the liquidity bottleneck at the Axpo Group, the federal government jumped to the rescue before parliament had passed the proposed amendment to the law.
The knowledge of the existence of government liquidity aid may calm unsettled markets somewhat. However, the boundary between liquidity problems and solvency problems is rarely very sharp. Even in the case of the Axpo electricity group, there is no solvency guarantee; if these existed, a state injection of liquidity would not have been necessary.
This also applies to banks. If an institution has the smell of a crisis, a visually acceptable equity base is no guarantee. For example, desired partial sales could be made more difficult because potential buyers, knowing about the seller’s plight, at best only offer rock-bottom prices or limit themselves to poaching certain employees. This can create a need for copyists. There is also a risk that equity that would be available in the global group can no longer flow to those places where it is most needed due to objections from local supervisory authorities.
If liquidity support were not enough and if a systemically important bank were unable to find new equity on the market in the short term, a state injection of equity could also not be ruled out.